Pyramid and Ponzi Schemes and the Price of Inadequate Regulatory Responses: A Comparative Account of the Diverging Regulatory Responses of China, Europe and the United States

Abstract

The perception and regulation of pyramid and Ponzi schemes, as specific forms of investment fraud, vary significantly around the globe today. Although no jurisdiction is immune from them, in some jurisdictions, they are among the top targets of financial supervisory agencies (e.g., United States), in others they are rather crimes perceived to be primarily in the bailiwick of public prosecutors (e.g., Germany). This difference is then reflected in the publicized records of detected cases.

Special concerns apply to emerging financial systems that not only lack efficiently functioning sector-specific regulations and properly empowered agencies that could react in due time, but because of the comparatively lowest financial literacy of the populace - the potential investors - are also the most vulnerable to these types of financial pathology. It is not only that in these countries disgorgement of illegally obtained profits, fair funds or anything similar is unheard of, but typically no recovery could be expected in the often equally dysfunctional bankruptcy proceedings either that normally follow the schemes' collapse. The systemic risk that may be generated by schemes of magnitude similar to the Albanian pyramid schemes comes on top of all that. China, faced with the consequences of the recent Ezubao scheme, is only now to decide which path to take, though unfortunately the same could be said also as to many of Central and Eastern European jurisdictions as well.

In light of these considerations, this paper aims to show that comparative law has what to offer in this domain by sketching a select number of schemes from China, Europe, and the United States together with their characteristic regulatory solutions. The central argument is that combating pyramid and Ponzi schemes cannot be left only to such classical branches of law as criminal, tort or contract law. Rather, they should directly be targeted by financial regulations, be in the purview of adequately empowered agencies and their investigation and prosecution ideally be entrusted to a specialist body (e.g., the UK Serious Fraud Office). Training of staff of these is inevitable as well because detection of schemes requires specialist expertise in finance as no scheme could be sold unless it looks like a legitimate business; a task that hardly could be entrusted to prosecutors trained to prosecute conventional crimes and to be adjudicated by generalist judges. Education of the investing public on top of that is as well a must.

These tested tools notwithstanding, as sketched by the article, even some developed financial systems lack adequate regulatory responses, let alone the emerging ones.

Keywords: financial fraud, pyramid and Ponzi schemes